Sun International’s current market rating doesn’t reflect the good progress management is making in cutting costs and making the business more efficient, according to Jan van Niekerk, CEO of value asset manager RECM.

Our investment case for Sun International is based on a sustainable improvement in profitability as new management trims fat and reformulates its approach across many areas of the business. We believe that the benefits of Sun International’s restructuring efforts will become evident in the next few years.

Last month’s R664 million deal with Minor International (MINT) is another positive. The deal disposed of majority stakes in Sun International’s African hotel operations and certain casinos. They sold at a good price – especially for hotels that will need a fair amount of capital investment in the next few years. The deal improves the quality of the group’s earnings and is value accretive.

Focus on Latin America

The company has shifted its international growth focus to Latin America, and has an ambitious growth plan for this region. They’re taking out minorities in Chile and will be opening soon in Panama and Colombia. So far, the deals seem to have been value neutral and further expansion is likely to be through relatively small acquisitions, which reduces the risk if something goes wrong.

Management is taking on a lot, though, and there’s a risk that some of what they’re doing won’t work out, but margins should improve over time. Operationally they’re on the right track and are clearly thinking about every part of the business.

While there are some potential industry risks on the horizon, our view is that Sun International seems to be well-positioned to manage these. Margins could be impacted ­by increased competition from limited payout machines and electronic bingo terminals (where Sun International also has some exposure), although these compete more with lower-end casinos than the top end. There are also potential increases in gaming taxes and smoking legislation – changes to smoking laws had a big impact on their Chilean operation in the first half of their last financial year. Sun City also still unfortunately acts as a drag on returns on capital.

New casino in Pretoria

We see good value in the company’s proposed new casino in Pretoria. Changes to the provincial border between Mpumalanga and Gauteng have allowed Sun International to move its casino licence from the Morula Sun to a new development in Menlyn Park, in the heart of Pretoria. This is a very lucrative, largely untapped casino market. The cost of the development is estimated to be around R3 billion and we believe the casino should earn a good return off that base, given that they’ll be the first in that area.

We like Sun International less on an industry story and more on the fact that it’s trading well below what we calculate its intrinsic value to be, based on normal profits given the good assets of the business. We don’t think the current valuation is fully pricing in the benefits of the efficiency improvements management is implementing, and the Menlyn development is likely to add even more value if it comes off.